After recently ending many covid-related restrictions, the cruise industry has seen an increase in demand. Royal Caribbean Cruises (NYSE: RCL) remains undervalued, with the stock trading closer to covid lows than the 2021 rebound highs near $100. My investment thesis remains ultra-bullish on cruise lines, with covid officially declared over by President Joe Biden.
End of covid
On the Radio-Canada program 60 minutes which aired on Sunday, President Biden claimed that unofficial end of the covid pandemic. Many parts of the country were already operating with limited covid restrictions, but cruise lines were a notable area where CDC guidelines and internal management acceptance allowed the industry to have covid restrictions well beyond of the general travel industry.
In early August, cruise lines generally removed a ton of restrictions which helped improve bookings dramatically. The main restriction removed as of September 5 was the requirement for a vaccine to board a cruise ship. Cruise lines routinely reported extended bookings through next year at high levels, but travel closures were generally limited due to vaccine and testing requirements that discouraged passengers.
Many data points point to a big increase in bookings since the easing of covid restrictions. Based on discussions with travel agency executives, Truist forecasts a 30% increase in bookings for the month ending the first week of September compared to 2019.
The day before, Stifel had raised 2023/24 EBITDA targets for Royal Caribbean based on confidence in booking trends since the removal of most covid restrictions. Analyst Steven Wieczynski sees demand matching 2019 levels without China running, which will provide a huge upside to historic trends once the communist country finally emerges from covid lockdowns.
The only negative for Royal Caribbean is that there are indications that luxury bookings have increased by 40% compared to 2019, favoring Norwegian Cruise Line Holdings (NCLH) on Royal Caribbean and Carnival Corp. (CCL) at the lower end. Macroeconomic issues are limiting growth for all cruises, but the non-luxury market continues to see growth.
The only minor issue for Royal Caribbean is that some covid restrictions still exist. In the United States, the cruise line still requires a negative covid test for unvaccinated people 3 days before boarding a ship. Other regions, such as China, still have general restrictions on all travel and Canada requires a vaccine for stopovers in the country, including departures from Vancouver.
Even New York has lifted some covid restrictions, including the end of the vaccination mandates of business and private school activities. The city still has restrictions on healthcare workers and groups.
Focus on growth
With the end of covid, an investor can now focus on a full recovery of the cruise industry. In the case of Royal Caribbean, investors can once again focus on booking growth after a 3-year period of pent-up demand:
Returning to the Q2’22 earnings call, CEO Jason Liberty highlighted what was already a positive bookings environment before the end of more covid restrictions in August:
During the second quarter, we saw strong demand for close departures, which contributed to better than expected load factors. Bookings for 2022 departures averaged around 30% above 2019 levels throughout the second quarter and more recently reached 35%. The second half of 2022 is booked below historical ranges, but at higher prices than 2019 with and without future cruise credits.
Cancellations are at pre-COVID levels. Additionally, we are now seeing the booking window begin to expand, which builds confidence in forward-looking business as our customers plan thoughtfully for the future. As a result, all four quarters of 2023 are booked in historic ranges at record prices, with bookings accelerating each week. Deposits from our customers are at record highs and more than 90% of reservations made in the second quarter were new, while the study of FCC refunds continued.
The stock only trades at 3x 2024 EBITDA targets of $4.3 billion. Consensus estimates for 2024 continue to rise with the removal of more covid restrictions after hitting a low over the summer.
Based on the bookings inflection point, Royal Caribbean could actually see 2024 EBITDA targets met next year. Consensus estimates once had 2023 EBITDA of around $4.0 billion, and expectations for next year may even be higher now.
Of course, the company has $21.1 billion in net debt, bringing the EV/EBITDA target to nearly 8x. The problem here is to value a stock based on net debt while ignoring net tangible assets. Not all debt is equal, and debt used to acquire assets (cruise ships in this case) should not be accounted for the same, in my view. Royal Caribbean has net property, plant and equipment in excess of debt of $7.0 billion.
The key takeaway from investors is that once investors start pricing the company based on consensus 2024 EPS estimates near $7, the stock will likely rise. The market is currently focusing on all the negative aspects of rising fuel costs, debt and equity dilution without focusing on the real facts discussed above.
Investors should use this weakness to load on Royal Caribbean.